SoMoLend CEO Candace Klein resigns

Aug. 14, 2013

Candace Klein is the founder and former CEO of SoMoLend. / The Enquirer/Joseph Fuqua II

Written by

Candace Klein resigned Wednesday as head of SoMoLend Holdings LLC, – the latest development in a case that highlights a clash between regulators and entrepreneurs advocating an emerging small business lending practice.

Klein’s abrupt resignation came three days after The Enquirer first reported that Ohio’s Division of Securities is investigating SoMoLend for alleged fraudulent practices.

The state is threatening to shut the company down in Ohio, saying it consistently made false projections about future revenue and misleading statements about past performance to potential investors. Further, the state says, SoMoLend exaggerated its relationship with key business partners and failed to obtain the required state and federal licenses to do business.

Klein said Wednesday that the decision was hers to step down as CEO and board member of the company she founded in 2011.

“It was my recommendation that I step down, and I did so voluntarily,” Klein said. “The recent press has been focused on my personal actions and not the actions of my company, and I want to see SoMoLend be successful. It would be less of a distraction for the management team and staff if I were to resign today.”

She declined further comment when asked about her future role with the company or state investigation.

“The SoMoLend team remains focused on its mission of increasing access to capital for small businesses,” the company said in a statement. It did not name a new CEO.

Full picture not black and white

For Ohio’s Division of Securities, the case is Exhibit A on why the general public shouldn’t be allowed to invest in young companies. The state opposed the JOBS law passed by Congress last year that enabled SoMoLend to advance a new lending practice commonly called crowdfunding.

SoMoLend has become known nationally in that field, and Klein has been one of its most vocal lobbyists as regulations are being written. Essentially, crowdfunding allows individuals and businesses to connect with small businesses seeking loans, bypassing traditional lending models, such as banks. SoMoLend’s digital platform connects lenders and businesses, and it receives a fee or commission for facilitating the loans.

Klein’s biggest supporters say the state is unfairly targeting a young entrepreneur who did what every entrepreneur does. SoMoLend, they say, is leveraging technology and forward-looking legislation to pioneer a business that’s providing much-needed capital to small businesses that have no other source of available capital.

They say the state’s allegations of fraud against SoMoLend, detailed in a June 14 notice, is really about a reluctance to embrace the future, and will have a chilling effect on Ohio’s efforts to foster innovation.

Interviews with multiple SoMoLend investors and sources who have direct knowledge of its history suggest a more nuanced picture.

They say Klein is a passionate entrepreneur who was honest about the company’s finances with investors and board members, but consistently lacked discipline and precision when discussing and presenting the company’s actual performance.

Those and other missteps, combined with a state government that’s leery of crowdfunding efforts, led to an investigation that has put SoMoLend’s future in doubt and left its investors fuming. Board members have declined to comment, citing ongoing discussions with the state.

But investor Carlin Stamm is happy to step forward. He has questions, but they aren’t directed toward Klein. He wants answers from the state.

“Did she make some mistakes? I believe that is obvious. The question is, were investors defrauded?” he said. “To my knowledge no investor complaint has been lodged against SoMoLend. If the investors don’t believe they were misled or harmed, where is the fraud?”

Klein lacked precision in presentations

Whether it was through carelessness, exuberance or a combination of the two, Klein repeatedly made publicly inaccurate statements about SoMoLend’s current and past financial performance in presentations and in publications, according to the state’s notice.

The distinction between actual revenues, and future projections, is noteworthy. Sophisticated investors expect to hear aggressive revenue and profit projections from a startup. Current and past revenues, on the other hand, are one way to actually measure a company’s progress. Accuracy matters.

“I can’t think of a situation when it’s not important,” said Jim Salters, CEO of The Business Backer. The Business Backer provides small businesses with working capital when traditional sources of financing are not available.

According to the state’s filing, SoMoLend – short for Social Mobile Local Lending – had generated $3,404 of revenue from its inception in December 2011 through June 14 of this year. But in investor presentations and interviews, Klein left a very different impression.

According to the state, SoMoLend at the time had closed only 13 loans for nine businesses totaling $94,000, which generated $3,404 in revenue.

Investors defend Klein's transparency

Several of Klein’s investors and supporters say she was cautioned about the lack of precision when discussing SoMoLend’s financials. That said, six SoMoLend investors who spoke to the Enquirer say Klein provided them with accurate financials before and after they made investments into the company.

They and other Klein supporters suggest that she could be so enthusiastic about her mission that she perhaps began to believe the projections she was touting were real.

Alice Sparks, the former chairwoman of the Northern Kentucky University’s Board of Regents, paid for Klein’s law education at NKU’s Chase School of Law. Sparks is not an investor in SoMoLend, but has stayed close to Klein.

“She was nothing but honest with me and with anyone I ever knew,” Sparks said. “But I think that totally in her own mind, what she was forecasting is what she thought she would have, and that’s what she came to believe was actually happening.”

It wasn’t the only mistake Klein and SoMoLend made. When projecting the company’s future revenues, the state says Klein routinely projected millions of dollars in annual revenues and profits without including cautionary language or risk factors. The state alleges SoMoLend also failed to secure the necessary local or federal licenses.

Outside experts are mixed about whether SoMoLend erred in not immediately obtaining those licenses, but investor Clifford Holekamp said he wasn’t concerned.

“They’re entrepreneurs who are helping to create an entirely new category of industry, and there are a lot of different legal issues that have to be worked out.”

Klein’s real problem, investor Ian Edwards said, had nothing to do with revenues, projections or licenses, but everything to do with geography. “The biggest mistake she made was starting this business in Ohio,” he said.

Business model, state concerns clash

SoMoLend was counting on new crowdfunding rules to eventually help drive its growth. Currently, SoMoLend’s lenders are limited to financial institutions and accredited investors who have a net worth of $1 million – excluding their homes – or $200,000 in annual income.

The U.S. Securities and Exchange Commission is reviewing rules that would allow the general public to make loans and equity investments in small businesses, prompted by the passage of last year’s JOBS Act. Klein has become a national spokesman for crowdfunding, and in an April Inc. magazine article lamented the slow progress in implementing rules. At the same time, Ohio regulators were wrestling with their concerns over crowdfunding, which the state detailed in a January letter to the SEC. Protecting investors is a consistent theme.

“The types of frauds and misrepresentations the crowd will need to sort out to eliminate fraud will include ... whether financial statements have been prepared in a fraudulent or misleading manner, and, after the fact, whether an issuer’s failure was merely the result of bad business decisions or was fraud cloaked in competitive failure,” the state wrote.

The lettter concerns investors and entrepreneurs because startups routinely make future revenue projections that include explosive revenue growth. SoMoLend was no different.

“No one gets customers by saying, ‘My product is rubbish,’” Edwards said. “It is hard for any new company to accurately predict income/revenue streams and particularly for this company given the regulatory environment. It is my experience that most new startups miss their early business projections. Yet a number go on to be very successful.”

The general public, on the other hand, is another story. So while Klein made the kinds of aggressive projections every entrepreneur makes, the state took issue with a 2011 presentation, which it said in its notice constituted fraud.

So what’s next? SoMoLend's board continues its discussions with the state, and a hearing is scheduled for October. The company is not fund-raising or issuing loans in Ohio, and has capital to operate and the right to operate in other states.